Utilities ETFs Turn Negative for Year on Dividend Tax Worries

ETF Trends

Utilities Select Sector SPDR (XLU) has tumbled 7% so far in November and is dramatically underperforming the S&P 500 as investors pull away from dividend sectors following President Barack Obama’s election victory.

XLU has also been lagging the market the past few months as investors have moved toward a risk-on posture. Utilities are seen as a defensive sector that provides stability and dividends when the economy slows.

“While utility stocks fell along with the broader market in late October and early November, what is striking is the sector’s relative underperformance,” says Serge Berger at The Steady Trader.

The recent sell-off in the utilities has erased the sector’s gains in 2012. Year to date, XLU is down 0.8%, while SPDR S&P 500 (SPY) has gained 11.7%, according to Morningstar.

That’s a reversal from 2011, when the utilities ETF rallied 19.6% while the S&P 500 was up 1.9%. The recent pullback in utilities could be the sector working off overbought conditions.

“So, why are utilities under attack? Quite simply, it’s fear of higher taxation. While it’s far from certain how the taxation of dividends will change, it will rise unless Congress takes action,” writes Alan Brochstein at Seeking Alpha.

Obama securing a second term means the Bush-era lower tax rate on qualified dividends for wealthier investors could be allowed to expire at the end of the year, analysts say. [Dividend ETFs: What Obama Win Means for Tax Rates]

“While the tax-rate change is freaking investors out, there are other issues likely playing a role. The sell-off may reflect the fear of regulatory wrath after excessive outages following Sandy,” Brochstein added. “Additionally, there is a school of thought that regulators may push down allowable returns in a lagged response to the lower interest-rate environment.”

Utilities Select Sector SPDR

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Full disclosure: Tom Lydon’s clients own SPY.

The opinions and forecasts expressed herein are solely those of John Spence, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.

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